2. The Cash Flow Statement
Reporting of cash flows
Purpose and content of the cash flow statement
Preparing the cash flow statement
Operating activities
Investing activities
Financing activities
The cash flow statement
Using financial statement information
Free cash flow
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3. CHAPTER 17: The Cash Flow Statement
Describe the purpose and content of the cash flow statement.
Prepare a cash flow statement using either the indirect or direct method.
Analyze the cash flow statement.
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4. Purpose of the Cash Flow Statement
Gives information about:
Cash receipts and payments
Net change in cash during a period
Helps investors, creditors and others understand a company’s:
Ability to generate future cash flows
Ability to pay dividends and meet obligations
Investing and financing transactions during the period
Cash provided (used) by operating activities, and how it differs from profit
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5. Content of Cash Flow Statement: Definition of Cash
Cash flow statement is prepared using cash and cash equivalents:
Highly liquid investments readily convertible to cash, and
Very near maturity (usually three months)
Companies must give a clear definition of “cash” as it is used in the statement
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6. Content of Cash Flow Statement: Classification of Cash Flows
Operating activities: cash effect of transactions that:
Create revenues and expenses
Relate to changes in noncash current assets and liabilities
Investing activities: affect non-current assets:
Acquiring and disposing of non-trading investments and long-lived assets, and
Lending money and collecting the loans
Financing activities: affect non-current liability and shareholders’ equity accounts:
Proceeds from issuing and repayment of debt
Proceeds from shareholders and payment of dividends
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7. Content of Cash Flow Statement: Significant Noncash Activities
Significant investing and financing activities not affecting cash are not reported in cash statement
Reported in a separate note instead
Examples:
Issue of debt to purchase assets
Issue of common shares to purchase assets
Conversion of debt or preferred shares to common shares
Exchanges of property, plant and equipment
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8. CHAPTER 17: The Cash Flow Statement
Describe the purpose and content of the cash flow statement.
Prepare a cash flow statement using either the indirect or direct method.
Analyze the cash flow statement.
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9. Preparation of the Cash Flow Statement
Cash flow statement is prepared differently from other financial statements
Not prepared from the adjusted trial balance
Information usually comes from three sources:
Comparative balance sheet
Current income statement
Additional information, including transaction data
Accrual concept is not used, since cash flow statement deals with cash receipts and payments
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10. Four Steps to Preparing the Cash Flow Statement
Determine net cash provided (used) by:
Operating activities: convert profit from accrual basis to cash basis
Investing activities: analyze changes in non-current asset accounts
Financing activities: analyze changes in non-current liability and equity accounts
Then: 4. Prepare cash flow statement and determine net increase (decrease) in cash
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11. Step 1: Operating Activities
Convert profit from accrual to cash basis
Some revenues and expenses have not been realized or paid in cash, therefore cannot be included in cash statement
Two methods to convert: indirect and direct:
Indirect (more popular): total profit is converted
Direct: individual revenues and expenses are converted
Both methods arrive at the same total amount; difference is in the amount of disclosure
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12. Step 1: Operating Activities Indirect Method
Add non-cash expenses (e.g. depreciation)
Add losses and deduct gains from investing and financing activities
Changes in noncash current assets and liabilities:
Add: decreases in current assets and increases in current liabilities
Deduct: increases in current assets and decreases in current liabilities
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13. Step 1: Operating Activities Indirect Method 2
Bonds payable: amortization of:
Discount – added to profit
Premium – deducted from profit
Long-term investments in bonds: amortization of:
Discount – deducted from profit
Premium – added to profit
Changes in trading investments:
Trading investments are classified as an operating activity
Increases – deducted from profit
Decreases – added to profit
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14. Step 1: Operating Activities Indirect Method 3
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15. Step 1: Operating Activities Summary of Indirect Method
Starting with profit, add and deduct these items to arrive at net cash provided (used) by operations:
Noncash expenses
Gains and losses, and
Changes in noncash current asset and liability accounts
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16. Step 1: Operating Activities Direct Method
Each revenue and expense item is adjusted from accrual basis to cash basis
By adjusting for changes in the related asset and liability accounts
Only major classes of receipts and payments are reported
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17. Step 1: Operating Activities Direct Method 2
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18. Step 1: Operating Activities Direct Method: Cash Receipts
Cash Receipts from Customers:
Decrease in receivables: cash collected
Increase in receivables: cash receipts lower than revenues
Cash Receipts from Interest and Dividends:
Any accrued amounts must be adjusted
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19. Step 1: Operating Activities Direct Method: Cash Payments
Cash Payments to Suppliers:
First determine cost of goods purchased = cost of goods sold ± changes in inventory
Then determine cash payments by adjusting cost of goods purchased for changes in accounts payable
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20. Step 1: Operating Activities Direct Method: Cash Payments 2
Cash Payments for Operating Expenses:
Increase in prepaid expenses and decrease in accrued liabilities: more cash paid
Decrease in prepaid expenses and increase in accrued liabilities: less cash paid
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21. Step 1: Operating Activities Direct Method: Cash Payments 3
Cash Payments for Interest:
Change in interest payable must be added to or deducted from interest expense to determine amount paid
Amortization of bond discount is deducted from interest expense
Amortization of bond premium is added to interest expense
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22. Step 1: Operating Activities Direct Method: Cash Payments 4
Cash Payments for Income Tax:
Change in income tax payable must be added to/deducted from income tax expense to determine amount paid
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23. Step 1: Operating Activities Direct Method Summary
After all revenues and expenses have been adjusted to a cash basis, the operating activities section can be completed:
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24. Step 2: Investing Activities
Analyze changes in non-current asset and investment accounts
Review transactions in these accounts to determine the effect on cash; exclude noncash transactions
Cash purchases of long-lived assets
Cash proceeds from disposals of long-lived assets
Changes in investment accounts that indicate purchase and sales of investments
Note exceptions (Also must analyze short-term investments or notes receivable from non-trade transactions)
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25. Step 3: Financing Activities
Analyze changes in non-current liability and equity accounts
Review transactions in these accounts to determine the effect on cash
Exclude noncash transactions
Note exceptions (nontrade short-term notes payable)
Bonds payable: issue and redemption
Share capital: issue and reacquisition of shares
Retained earnings: dividends paid
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26. Step 4: The Cash Flow Statement
Indirect Method
Operating activities provided $172,000 of cash
Investing activities used $141,000 of cash
Financing activities used $9,000 of cash
Significant noncash activity for $110,000
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27. Step 4: The Cash Flow Statement
Direct Method
Operating activities provided $172,000 of cash
Investing activities used $141,000 of cash
Financing activities used $9,000 of cash
Significant noncash activity for $110,000
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28. CHAPTER 17: The Cash Flow Statement
Describe the purpose and content of the cash flow statement.
Prepare a cash flow statement using either the indirect or direct method.
Analyze the cash flow statement.
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29. Using the Information in the Financial Statements
Cash flow statement gives information about financial health not found in other statements
Shows the generation of cash and how it is being used
Shows whether a company is having difficulties with cash flow (liquidity)
All financial statements must be read together in order to assess the overall financial health of a company
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30. Copyright John Wiley & Sons Canada, Ltd.
Free Cash Flow
Describes the cash remaining from operating activities after cash outlays for non-expansionary capital expenditures
Not readily available, so net cash from investing activities is substituted
Shows how much cash is available to expand, repay debt or pay dividends
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31. Copyright John Wiley & Sons Canada, Ltd.
Copyright © 2013 John Wiley & Sons Canada, Ltd. All rights reserved. Reproduction or translation of this work beyond that permitted by Access Copyright (the Canadian copyright licensing agency) is unlawful. Requests for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd. The purchaser may make back-up copies for his or her own use only and not for distribution or resale. The author and the publisher assume no responsibility for errors, omissions, or damages caused by the use of these files or programs or from the use of the information contained herein.
Prepared by:
A. Davis, MSc, BComm, CA, CFE
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